Europe Increasingly Choking Off Hopes of Santa Rally

The negativity that’s driving the euro lower could keep pressure on stocks and commodities prices Thursday.

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Tired Santa Claus

Traders had been hoping that improving U.S. economic data would spark a year-end rally. But the gloom around Europe’s lack of progress in solving its debt crisis has investors raising cash and looking for safety in the dollar and Treasury market.

In fact, a 30-year Treasury bond auction was so strong Wednesday afternoon that investors accepted a record low yield of 2.925 percent. In contrast, Italy paid 6.47 percent, the highest rate since 1997, when it auctioned 3 billion euros worth of 5-year notes earlier in the day.

Stocks sold off sharply Wednesday, as the euro fell below the psychologically important 1.30 level. U.S. stock futures were just slightly lower in evening trading, and oil also stabilized in evening trading, after NYMEX crude plunged more than 5 percent Wednesday.

There is a busy U.S. economic calendar, with jobless claims, the Empire State survey, and Producer Price inflation data, all at 8:30 a.m. EST. Other data includes the Philadelphia Fed survey at 10 a.m. and industrial production is at 9:15 a.m.

FedEx , an economic bellwether, reports earnings before the opening bell, as does Discover Financial , Pier 1 Imports and Rite-Aid . Research in Motion and Adobe report after the close.

Zynga, the internet gaming company, is expected to price an initial public offering after the close.

Whither Markets

“If you’re going to get a Santa rally, the only likely catalyst would be positive developments out of Europe, and that doesn’t look like it’s happening right now,” said Russell Koesterich, global chief investment strategist at the iShares unit of BlackRock.

“We seem to be moving in the opposite direction with (European) leaders’ making the kinds of comments the market doesn’t want to hear right now,” said Koesterich. He said one slight positive for the market would be Congressional approval for the payroll tax extension, but he adds it will be more of a negative if it does not get approved.

Stocks often rise into the year end as fund managers chase performance and investors shuffle portfolios, but this year the market’s late December performance has been riding on whether the market could move past Europe and the fear of contagion. Investors looked forward to last week’s European leaders summit with optimism, driving stocks higher in the days ahead of it.

But the meeting came up short, and the European Central Bank added to the disappointment by stating that it would not be a buyer of European sovereign debt . The S&P 500 had been flat on the year, just ahead of last week’s meeting, but it is now down 3.6 percent for the year. The Dow is up 2 percent for the year, but it had been more than 5 percent higher.

Wednesday’s fierce sell off in commodities, particularly gold and oil, was sparked by disappointment that the Fed didn’t provide any new promise of quantitative easing, or QE3, after its meeting Tuesday. Traders, it seems, moved forward their expectations that the Fed would do something because of the high level of concern about contagion from Europe. Even so, Fed watchers and economists had expected no moves from the Fed this month.

“I was planning for it,” said T-3 Live.com’s Scott Redler of a year-end rally. “I was trying to position some momentum names for a markup into the year end. And then yesterday, Scrooge knocked on my door instead of Santa.”

Redler said stocks will have to hold the key 1,195 to 1,205 level on the S&P, if they are to move higher into year end. “That would be the last line of defense for any short term constructive composure for some type of move higher into year end,” he said.

“Then the next real area is 1160 and then under that, you’d hear every bear in the woods coming out saying we need to test that Oct. 4 support area around 1100,” he said.

The Dow Wednesday fell 131 points to 11,823, and the S&P 500 slid to 13 to 1,211. Oil finished down $5.19 per barrel at $94.95, and gold dropped $76.60 per ounce to $1584.34.

Ray Carbone, president of Paramount Options, said oil will continue to be volatile and could again be under pressure Thursday, as January options expire. The futures contract expires next Tuesday.

“I’m guessing people were short some puts,” said Carbone, noting investors would have then been hedging by selling futures, adding to the selling wave.

He said the oil market was disappointed by the lack of QE3, but also by OPEC’s Wednesday meeting. OPEC said it would keep production about the same, at 30 million barrels per day, but Carbone said that number is not bullish for oil prices and OPEC also did not say what it would do if more production comes on line from Libya.

Barclays precious metals analyst Suki Cooper said gold, which broke below its 200-day moving average Wednesday, is moving on technicals and was not seeing good physical support as it headed lower.

“In gold, it’s really been a need for liquidity and a need for cash that’s weighed on prices. I think it’s more about broad risk redemption right now,” she said. “Concerns are quite broad. There’s concerns about a hard landing in China and long-term debt issues in the U.S. as well.”

“We should have been seeing good physical support on the down side and that hasn’t been materializing. Some of the consumers at the moment don’t like volatility in prices, especially in India. In Indian rupee terms, the price of gold is at record highs,” she said.